A portfolio consists of the two stocks A and B. The covariance between the two stocks’ returns is -0.0075. The standard deviations of the stock returns are 5% for stock A and 15% for stock B. You want the portfolio risk to be eliminated. Portfolio weights must then be: (a) 15% in A and 85% in B (b) 50% in A and 50% in B © 67% in A and 33% in B (d) 75% in A and 25% in B (e) I choose not to answer. thanks
answer is d, but I want to go with e, it’s just such a wicked choice…
can you tell me logic behind it coz this is wa its confusing me
there’s really not much logic to it, it’s just straight calculation, they want to eliminate port risk, so port risk = 0 -> port var = 0, so you have 0=w1^2*0.05^2 + w2^2*0.15^2 + 2*(-0.0075)*w1*w2 rearrange you get 0=w1^2 - 6*w1*w2 + 9*w2^2 -> 0= (w1 - 3*w2)^2 -> w1 = 3*w2 simple algebra, you get w1=0.75 and w2=0.25